Wednesday, October 06, 2010

Watch the Coaliton's smash and grab raid on your pension

The National Association of Pension Funds (NAPF) annual conference in Liverpool won’t have grabbed too many headlines clashing as it does with the Conservative Party conference. But the subject of Pensions is sufficiently important for the Coalition to arrange for their Pensions Minister, Steve Webb, a LibDem, to address the conference and to answer questions. A number of the delegates wanted to quiz Mr. Webb on the detail of his plans to replace the Retail price Index (RPI) as the indexation reference for annual Pension increment calculations, by the Consumer Price Index (CPI). Webb’s position has been summarised as “CPI is the most appropriate measure of inflation for state benefits, and it is appropriate to take a consistent approach for private pensions” and he confirmed at the conference that this is the case.

So the coalition government intends to use CPI for the uprating of state pensions, state benefits and also for the inflation-related increases built into the big public sector pension schemes. As the government tries to cut the record peacetime deficit the changes will lead to a huge saving in the state's pension costs. The CPI measure of inflation has generally risen by 0.7% a year less than RPI and in the next five years the gap between the two is likely to be at 1.2% a year, according to data from the recently established Office for Budget Responsibility.

The logic of saying that CPI should also apply to Private Sector pension schemes as well is a reasonable one - however quite what this will mean in practice is unclear. Many Defined Benefit schemes have written into their Trust deeds that RPI should be used as the minimum increase for pensions each year. "Pensions linked to CPI will be lower over a period of time - some estimates put the drop as high as 25%", said Dawid Konotey-Ahulu of Mallowstreet who was present at the Conference and who questioned Mr. Webb on the plans.

The Government has basically two options in respect of their plans for private sector pensions. Firstly they could pass legislation which will require Pensions Funds to amend their Trust Deeds and replace RPI with CPI. The logic for doing this, aside from the elegance of have only one index used for all pension increment calculations, is that the burden on businesses would be significantly reduced. It would particularly help those Fund sponsors who are faced with the need to fund rescue plans for underfunded schemes – British Airways and BT are two of the very big names who would benefit from this move. The second option is that Government could refrain from legislating to compel funds to replace RPI with CPI but they could actively encourage such a move – perhaps with some tax incentives. Many businesses would jump at the chance to reduce their funds’ liabilities and the policy could be sold as business friendly.

The missing link in all of this is the consultation which many in the industry believe to be essential. This consultation would have to take into account the views of Pensioners and their representatives – which is perhaps why the Government is reluctant to do it. For, as Mr. Konotey-Ahulu pointed out to the Minister, the consequences for individual pensioners of a change from RPI to CPI are very significant indeed over time. It is also the case that RPI has never been a very good measure of Pensioner inflation anyway – not, of course, because it exaggerates this inflation but because it underestimates it! The Office for National Statistics compiles a separate measure of pensioner inflation, though this is not used to set any pensions or benefits. This data shows that pensioner inflation in the second quarter of 2009, for example, was 4.3%, whereas the basic RPI was 2.2% - and this was not an exceptional quarter. Organisations like Age Concern have constantly pointed to the fact that RPI underestimates Pensioners true cost of living increases. A move to CPI will make the gap even greater and can only lead to hardship for many pensioners.